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Wednesday, December 03, 2008

Academic: "The Euro may not survive"

Academics are jumping on the bandwagon. I have been talking about the dangers and the possibility of dissolution on this blog incessantly, but the fact that academics are starting to notice and think similarly probably means I am wrong now...

This probably merits a post regarding academics and the social "sciences", but I will save those thoughts for another day.

November 26, 2008Author: Martin Feldstein, George F. Baker Professor of Economics at Harvard University

CAMBRIDGE, Massachusetts - The European Economic and Monetary Union (EMU) and the euro are about to celebrate their 10th anniversary. The euro was introduced without serious problems and has since functioned well, with the European Central Bank delivering the low inflation that is its sole mandate.But the current economic crisis may provide a severe test of the euro's ability to survive in more troubled times. While the crisis could strengthen the institutions provided by the EMU, it could also create multiple risks, of which member countries need to be aware if they want to avoid them.The primary problem is that conditions in individual EMU members may develop in such different ways that some national political leaders could be tempted to conclude that their countries would be better served by adopting a mix of policies different from that of the other members. The current differences in the interest rates of euro-zone government bonds show that the financial markets regard a breakup as a real possibility. Ten-year government bonds in Greece and Ireland, for example, now pay nearly a full percentage point above the rate on comparable German bonds, and Italy's rate is almost as high.There have, of course, been many examples in history in which currency unions or single-currency states have broken up. Although there are technical and legal reasons why such a split would be harder for an EMU country, there seems little doubt that a country could withdraw if it really wanted to.The most obvious reason that a country might choose to withdraw is to escape from the one-size-fits-all monetary policy imposed by the single currency. A country that finds its economy very depressed during the next few years, and fears that this will be chronic, might be tempted to leave the EMU in order to ease monetary conditions and devalue its currency. Although that may or may not be economically sensible, a country in a severe economic downturn might very well take such a policy decision.